Asset Based Financing in Canada

1st Commercial Credit can provide asset based financing even when banks and traditional lending companies find these arrangements too risky. Nowadays, a company simply can’t afford to rely upon one means of financing. Instead, they must mitigate risk by relying upon multiple financing strategies, ones that lower their costs of capital, while also helping them to maintain a positive cash position.

The reality is that far too many companies ignore this basic of business concepts. Instead of managing risk, and using other people’s money to finance their pursuits, they increase their risk because they rely upon a single financing source. However, a number of enterprises are bucking this trend by relying upon asset-based financing. We’ll define the options provided through asset-based lending and then we’ll outline five direct benefits of combining this alternative credit source with your existing financing structure.

The Multiple Options Provided Through Asset-Based Financing

Understanding asset-based lending starts with understanding its differences from conventional financing. For instance, banks advance credit based on the value of tangible assets. The bank’s concern is predominately with physical assets such as cash on hand, real-estate, equipment and machinery. They review the company's sales, its credit rating, its credit history, and then they combine these assessments with a complete review of the company's financial statements and its debt-to-equity ratio.

It's common for banks to establish criteria for capital advances based on a company's year-after-year performance. In fact, most banks stick to assessments that are based on three to five year performance intervals. While banks will review the value of a company's inventory and sales, they don't base their entire decision around these assets. Those that do tend to apply higher interest rates and grant lower capital advances. However, asset-based financing firms are different.

Asset-based lenders are more concerned with the ease at which an asset can easily be converted into cash. These firms have more experience assigning values to receivables, contracts, purchase orders, inventory and equipment. With respect to receivables financing and purchase order financing, the asset-based lending firm is more concerned with the account debtor’s credit rating than the company’s credit rating. Here are some of the most common asset-based financing options available today.

Receivables Factoring: This solution allows a company to put up its receivables as a guarantee in order to set up a renewable credit line. A company sells its receivables in exchange for instant cash. That receivable then belongs to the financing company as they become responsible for receivables collection.

Purchase Order Financing: This alternative financing option allows companies to use contracts, agreements and customer purchase orders as collateral against future capital advances. Once the orders are invoiced, the financing company takes over receivables collection.

Inventory Financing: Companies are able to use the liquidity within their inventory in order to secure the capital needed to finance their operations. Inventory is typically discounted and companies must maintain high inventory turnover rates in order to stay within the agreed-upon terms.

Equipment Financing: Equipment financing is an option where a company is able to use its equipment and machinery as collateral. However, this option is more ideally suited to securing a term loan or short-term capital advance.

Five Benefits of Using Alternative Financing

Undercapitalized companies with solid sales, but who have issues with cash flow, are ideally suited to asset-based financing. These companies tend to have high value receivables, but simply lack the day-to-day financing needed to level out uneven cash positions. For some, it's simply an issue borne out of long receivable collection times. However, for others, the problem is exacerbated due to the gap between bills they must pay today, and the receivables they'll only collect on months down the road. So what are some of the benefit of using any of these four aforementioned solutions?

1. Stronger Cash Positions

Asset-based borrowing allows companies to keep more cash on hand, which helps them better manage the cyclical nature of their business. However, managing cash flow isn’t merely a question about how to keep more capital on hand. Instead, it’s about properly allocating that capital so as to ensure that all aspects of the company’s operations are functioning as they should. This means covering payroll, expenses and using the capital to reduce supply chain management costs by promptly paying vendors and creditors in order to secure discounts and rebates.

2. Removing Credit as a Going Concern

A company can combine conventional financing with multiple asset-based solutions. This not only improves the company’s cash flow, but it also helps companies stay within the terms established by creditors, vendors and banks. Instead of pushing out critical payments to creditors and vendors, companies can balance out their payables with an asset-based solution that gives them instant access to working capital.

3. Increased Flexibility

It’s all about flexibility: A company can pick and choose which clients to use asset-based lending with and which ones should be kept under the company’s in-house financing arm. This further reduces risk while simplifying how a company manages its customers’ credit. The byproduct of this strategy means the company is able to better manage its own credit terms with vendors and creditors. However, there's another added benefit: Receivables factoring is a capital advance on the sale of a receivable. This means that it isn't a loan. As such, any company using factoring won't be forced to show it as a loan on their balance sheet.

4. Accounting Cost Reductions

Imagine if you could outsource a portion of your accounting without having to incur additional costs? Does this sound too good to be true? Well, it isn’t and asset-based financing is the reason why. Working with an alternative financing firm isn’t just about finding another credit source. It’s ultimately about benefiting from an outside firm’s extensive experience in capital markets. These firms will determine your customer’s credit worthiness for you. They’ll review their credit rating, credit history and will assign an acceptable limit. In addition, they’ll take over responsibility for receivables collection so you can get back to doing what you need to in order to grow your business.

5. Increased Sales and Market Share

There are all kinds of reasons why a company may or may not win new contracts. However, a lack of financing shouldn't be one of them. Unfortunately, this happens far too often. Sometimes it's because companies can't afford to advance terms to customers they see as credit risks. Other times it's because the company can’t finance the sale. Yet, other times it's because the company hasn't taken the time to do a proper credit assessment. Regardless of why, it's common for companies to lose out on sales because of financing. However, this isn't an issue with asset-based financing. With receivables factoring, it’s the financing company that determines the account debtor’s credit worthiness. With purchase order financing, the order itself is used as collateral.

Asset-based financing includes multiple credit solutions. All are based on companies using their current assets as guarantees against capital advances. Again, there is an inherent difference between how a bank evaluates assets and how an asset-based lending firm evaluates assets. Banks rely upon a set of criteria that rely upon acceptable debt-to-equity ratios, while asset-based lenders focus on the value of the collateral the company puts up as a guarantee.